Profits and Balance Sheet Developments at U.S. Commercial Banks in 2009

Sections of this Page

Seung Jung Lee and Jonathan D. Rose, of the Board's
Division of Monetary Affairs, prepared this article. Thomas C. Allard
and Mary E. Chosak assisted in developing the database underlying much
of the analysis. Michael Levere and Robert Kurtzman provided research
assistance.

The U.S. commercial banking sector remained under significant
pressure in 2009. Bank profitability was damped by
the effects of the weak economy on asset quality and lending activity,
with loan delinquency and charge-off rates rising to historical highs
in many cases and banks' balance sheets contracting. Reflecting the
weak portfolios and low profitability that weighed on the sector as a
whole, 120 smaller banks failed during the year, and the watch list of
the Federal Deposit Insurance Corporation (FDIC) expanded to include
about 700 institutions by year-end, the highest levels for both of
these measures since the early 1990s. By contrast, the acute strains
the largest banks faced in late 2008 abated over the first half of
2009, largely because of unprecedented interventions by the Treasury,
the Federal Reserve, and the FDIC.

Asset quality worsened for all major loan classes over 2009, but
real estate loans backed by residential and by commercial properties
remained at the center of banks' credit quality problems. Conditions in
the real estate sector generally stayed weak, especially in commercial
markets. House prices continued declining sharply in the first half of
the year but were more stable in the second half. The stabilization of
prices partly reflects stronger demand for housing that was likely
spurred in part by low mortgage rates, which were fostered partly by
the Federal Reserve's purchases of agency debt and mortgage-backed
securities (MBS). A tax credit for first-time homebuyers also helped
support housing demand. Still, with many households' mortgage
obligations exceeding the value of their houses, 1.4 million
properties entered foreclosure over the year.

Aggregate economic activity picked up in the second half of the
year after several quarters of contraction, stimulated by monetary and
fiscal expansions, increased foreign growth, and improvements in
financial market conditions. However, as is typical in cyclical
economic recoveries, the improvement in labor market conditions lagged
the trends in economic activity, and the unemployment rate reached
10 percent at year-end before edging lower. The weakness in labor
markets contributed to historically elevated delinquency and charge-off
rates on consumer credit card loans. The deterioration in credit
quality across all loan categories led to a further rise in already
elevated rates of loss provisioning. Consequently, the profitability of
the commercial banking industry was depressed, and return on assets
(ROA) and return on equity (ROE) were both at their lowest annual
levels since at least 1985. (Figure 1)1

Profitability diverged between the largest banking institutions
and the rest of the industry, primarily reflecting the ability of large
banks to generate income from specialized activities in which other
banks do not generally participate. Indeed, large banks, taken
together, posted a small profit last year, as trading revenue rebounded
to pre-crisis levels with the improvements in capital markets and
income from net servicing fees increased. Those revenues managed to
offset the pressures on earnings at these banks caused by the further
deterioration in credit quality. In addition, large banks experienced a
substantial inflow of core deposits at very low interest rates, which
improved their net interest margins. In contrast, profits at small and
medium-sized banks declined further, weighed down by higher loan losses
that were not offset by other forms of revenue.

The commercial banking sector deleveraged over 2009 as banks
raised capital and nominal assets posted an annual decline for the
first time since 1948. Loans outstanding declined--across all major
loan categories, but especially in loans to businesses--consistent with
reports of banks' more stringent lending posture and reduced demand for
loans from creditworthy borrowers. Borrowers such as households and
small businesses with more limited access to nonbank sources of credit
were particularly affected by the tight lending conditions.

Demand for bank loans was further held down by the efforts of
households and businesses to rebuild their balance sheets. Consumer
spending stabilized in the first half of the year and expanded
thereafter, reflecting the improvement in financial market prices and
accommodative monetary and fiscal policies. However, households
financed the increase in consumer outlays primarily out of disposable
income. On the business side, commercial real estate (CRE) activity
contracted sharply. Businesses' spending on equipment and software
picked up in the second half of the year, probably owing in part to
improved conditions in the bond market and some increase in sales
prospects. Indeed, large reductions in corporate bond spreads spurred
robust issuance of both investment- and speculative-grade bonds, and
large firms reportedly paid down some bank loans with the proceeds of
such bond issues.

Throughout the year, the Federal Open Market Committee maintained
a target range for the federal funds rate of 0 to 1/4 percent to
foster economic recovery. The Federal Reserve extended through early
2010 most of the special credit and liquidity programs that it had
established at the height of the crisis. However, as financial market
functioning improved over 2009, these facilities generally declined in
size (figure 2), and on February 1, 2010, most
expired.2 The Term Asset-Backed Securities Loan Facility,
which was designed to increase credit availability and support economic
activity by facilitating renewed issuance of consumer and business
asset-backed securities (ABS) at more-normal interest rate spreads,
continued operating into 2010. Together, the support provided by all of
these programs helped reduce strains in funding markets and bolster
liquidity in financial markets more broadly.

To provide support to mortgage lending and housing markets and to
improve overall conditions in private credit markets, the Federal
Reserve announced large-scale asset purchases of government-sponsored
enterprise (GSE) debt and agency MBS in late 2008. In March 2009, those
programs were enlarged, and the Federal Reserve also announced a
program of purchases of Treasury securities. The Federal Reserve
concluded purchasing $1.25 trillion of agency MBS and about
$175 billion of agency debt in March 2010, in addition to the
$300 billion of Treasury securities that it purchased between
March 2009 and October 2009.

The Treasury provided a large amount of capital to banking
institutions under the Troubled Asset Relief Program (TARP), and a
substantial volume of that capital was downstreamed by parent holding
companies to their commercial bank subsidiaries in the first half of
2009. The Treasury injected capital into financial institutions
primarily through the Capital Purchase Program (CPP), under which it
acquired shares of preferred stock at the holding company level. In
addition, the federal bank regulatory agencies, led by the Federal
Reserve, successfully completed the Supervisory Capital Assessment
Program (SCAP), which induced several large U.S. banking organizations
to raise capital in public equity markets.3 Subsequently, a
number of other larger banks also raised capital in order to repay
their CPP funds and increase the share of common equity in their total
capital. Meanwhile, aggregate regulatory capital ratios at the
commercial bank level reached historical highs by the end of 2009.

The government programs to support and assess the level of capital
adequacy augmented the highly accommodative monetary and fiscal
policies to help improve investors' outlook for the banking industry.
The Dow Jones stock price index for banks rebounded sharply beginning
in March 2009, as market participants began to mark down the odds of a
worsening of the financial crisis, especially after the completion of
the SCAP. Indeed, bank stocks have significantly outperformed the
broader S&P 500 index since that time despite historically low
profitability, though they remain substantially below their pre-crisis
levels (figure 3, top panel). Reflecting the decrease in the
perceived risks of failure for large banks after the conclusion of the
SCAP, credit default swap spreads on banks' subordinated debt came back
to levels last seen in the first half of 2008 (figure 3, bottom
panel).

Assets

Severe and widespread economic weakness during 2009 impaired
the health of both lenders and borrowers and significantly reduced the
supply of and demand for bank loans. Consequently, the total assets of
all commercial banks contracted 3-1/2 percent in 2009, the first
annual contraction since 1948 (table 1, figure 4). However, the decline in banks' assets last
year was even larger--about 5-1/4 percent--after accounting for
the acquisition of several nonbanks by commercial banks (see box
"Adjustments to the Balance Sheet Data for Structure Activity in
2009"). The share of industry assets in the top 100
banks fell slightly, the first annual decline since 1991 (see box
"Bank Failures and Measures of Banking Concentration in
2009").

NOTE: Data are from year-end to year-end and are as of March 23, 2010.

1. Measured as the sum of large time deposits in domestic offices, deposits booked in foreign offices, subordinated notes and debentures, federal funds purchased and securities sold under repurchase agreements, Federal Home Loan Bank advances, and other borrowed money. Return to table

2. Measured as the sum of construction and land development loans secured by real estate; real estate loans secured by nonfarm nonresidential properties or by multifamily residential properties; and loans to finance commercial real estate, construction, and land development activities not secured by real estate. Return to table

The decline in assets on banks' books reflected in large part a
fall in gross loans of about 5 percent, or 7 percent when
adjusted for structure activity. Relative to 2008, on an adjusted
basis, loan declines in 2009 spread from closed-end residential real
estate loans to all major loan classes, as the economic contraction
encompassed the consumer, business, and real estate sectors. The runoff
in loans involved a number of related factors. With less need for
external financing and the uncertain economic outlook, demand from
businesses for bank-intermediated credit declined broadly. Household
loan demand similarly dropped as consumers began deleveraging their
balance sheets, in part to adjust to the declines in the values of
their homes and equity holdings. Weak balance sheets of both businesses
and households likely also reduced the number of creditworthy
borrowers. In addition, banks tightened their lending policies
substantially over 2008 and 2009, partly in response to a less
favorable or more uncertain economic outlook. Reportedly, banks were
also responding to a range of other factors, including the poor quality
of assets on their balance sheets, the adverse implications of that
situation for their own capital, and disruptions in securitization
markets.

Adjustments to the Balance Sheet Data for Structure Activity in
2009

One consequence of the
turmoil in financial markets over the past two years has been a steady
stream of acquisitions and reorganizations by major financial
institutions. Several large thrift institutions that were acquired by
bank holding companies in 2008 were consolidated into the commercial
bank subsidiaries of those institutions during 2009, boosting assets on
banks' books.1 In addition to these bank-nonbank structure
events, a large credit card bank completed balance sheet consolidation
of its securitized assets in the fourth quarter of 2009 under the new
accounting requirements established by Statements of Financial
Accounting Standards Nos. 166 and 167; similar events will boost assets
on many banks' books in the first quarter of 2010.

In general, the
effects of these structure activities on bank balance sheet data do not
reflect net asset creation or elimination. To better capture net asset
changes, the data shown in table A have been adjusted to remove
the effects on the data series that have resulted from these structure
events. The growth rates of selected balance sheet components given in
the table have been adjusted to remove the estimated effects of the
following events that occurred over 2009, as well as the five major
structure events that were detailed in the Federal Reserve
Bulletin article about the 2008 developments:2

Bank of America, N.A., consolidated the assets and
liabilities of Countrywide Bank, F.S.B., on April 27, 2009,
boosting industry assets by about $115 billion.

Commercial bank
subsidiaries of Wells Fargo & Company consolidated the assets and
liabilities of Wachovia Mortgage, F.S.B., and Wachovia Bank, F.S.B., on
November 1, 2009, boosting industry assets by about $85 billion.

Bank of America, N.A., consolidated the
assets and liabilities of Merrill Lynch Bank and Trust Co., F.S.B., on
November 2, 2009, boosting industry assets by about $40 billion.

A large credit card bank
consolidated securitized credit card loans onto its balance sheet as of
the December 2009 Consolidated Reports of Condition and Income
(Call Report), boosting industry assets by about $25 billion.3

NOTE: Data are from period-end to period-end and are as of April 15, 2010, for both commercial banks and thrift institutions. For a discussion of the structure adjustments, see the box text; for an explanation of the adjustment calculation, see note 2 of the box text.

1. Measured as the sum of construction and land development loans secured by real estate; real estate loans secured by nonfarm nonresidential properties or by multifamily residential properties; and loans to finance commercial real estate, construction, and land development activities not secured by real estate. Return to table

These four events
resulted in the net addition of more than $265 billion of nonbank
assets to commercial banks' balance sheets last year, bringing the
total since 2006 to nine major events and $847 billion. As a
consequence, the adjusted growth rates shown in table A are generally
lower than the unadjusted growth rates shown in table 1 of the
main text. Notably, after accounting for the consolidation of assets
from Countrywide and Wachovia, the growth of residential real estate
loans in the second and fourth quarters was markedly lower, more
clearly reflecting the weakness in most residential real estate markets
over that period. Overall, the adjusted data on growth in total loans
show that, after adjusting for major structure events, bank lending
steadily contracted in each quarter of 2009.

1. In publishing its H.8 statistical
release, "Assets and Liabilities of Commercial Banks in the United
States," each week, the Federal Reserve describes nonbank structure
activity that affects bank assets by $5.0 billion or more. For a
list of such activity dating to December 16, 2005, see the H.8
"Notes on the Data" webpage
(www.federalreserve.gov/releases/h8/h8notes.htm). In addition,
information about structure activity involving any banking organization
is available in the Federal Financial Institutions Examination
Council's central repository of data, the National Information Center
(www.ffiec.gov/nicpubweb/nicweb/nichome.aspx). Return to text

2. See
box "Adjustments to the Balance Sheet Data for Structure
Activity" in Morten L. Bech and Tara Rice (2009), "Profits and
Balance Sheet Developments at U.S. Commercial Banks in 2008,"
Federal Reserve
Bulletin, vol. 95 (June),
pp. A62-A63,
www.federalreserve.gov/pubs/bulletin/2009/pdf/bankprofits09.pdf. The
structure-adjusted growth rates shown in the table were generally based
on the difference between the end-of-period reported data and the
beginning-of-period data adjusted for the structure event. To adjust
for Bank of America, N.A., in 2009:Q2 and 2009:Q4, and the bank
subsidiaries of Wells Fargo & Company in 2009:Q4, the
beginning-of-period values were determined by adding the value of the
assets of the acquired thrift(s) to the reported data for the previous
quarter. Similarly, to adjust for the large credit card bank in
2009:Q4, the beginning-of-period values were determined by adding the
value of the securitized loans to the reported data for the previous
quarter. Return to text

Bank Failures and Measures of Banking Concentration in 2009

Among the major developments
in the commercial banking sector in 2009 were the failure of 120 banks
with $117.9 billion in assets (figure A). Since the middle of
2007, the health of the commercial banking sector has been adversely
affected by the economic downturn and disruptions to financial markets
caused by the financial crisis. The number of problem institutions, as
identified by the Federal Deposit Insurance Corporation (FDIC),
increased greatly throughout 2009 and reached about 700
institutions by year-end, up from about 250 a year
earlier.1

The FDIC sold most of the $117.9 billion in assets at the 120 failed banks to other surviving banks.
However, given the uncertain quality of some of the seized assets, in
many instances the FDIC entered loss-sharing agreements with the
purchasers of disposed assets, and in some cases it retained assets for
future liquidation.

Very few new commercial banks were chartered
during 2009. Merger activity among commercial banks slowed a bit again,
and roughly two-fifths of all mergers involved a failed bank. Together,
these structural developments caused the number of banks to continue
declining over the year, to about 6,900 at year-end 2009 from about
7,100 at year-end 2008 (figure B, top panel).

Concentration in the
banking industry was little changed over 2009 after many years of
steady increases. The share of assets held by the 10 largest
banks increased only slightly, to just under 54-1/2 percent
at the end of 2009, even with the consolidation of assets from acquired
thrifts onto the balance sheets of the largest banks (figure B, bottom
panel). The share of assets held by the top 100 banks declined a
bit over the year to 81-1/2 percent, the first annual decline
since 1991.

The number of bank holding companies (BHCs)
fell at about the same pace as in recent years to about 5,000 at the
end of 2009 (for multitiered BHCs, only the top-tier organization is
counted in these figures). While merger activity among BHCs slowed
compared with the past two years, the number of newly formed BHCs
decreased for the second consecutive year, and a number of BHCs exited
because of the failures of their subsidiary banks. The number of
financial holding companies also declined slightly, mainly as a result
of mergers and decertifications of financial holding company
status.2

2. Statistics
on financial holding companies include both domestic BHCs that have
elected to become financial holding companies and foreign banking
organizations operating in the United States as financial holding
companies and subject to the Bank Holding Company Act. For more
information, see Board of Governors of the Federal Reserve System and
U.S. Department of the Treasury (2003), Report to the Congress on
Financial Holding Companies under the Gramm-Leach-Bliley Act
(Washington: Board of Governors and Department of the Treasury,
November), available at
www.federalreserve.gov/pubs/reports_other.htm. Return to text

The credit quality of existing loans in all major classes
continued to deteriorate significantly, on balance, over the year,
resulting in historically high charge-off rates. Banks' overall loan
delinquency rate (that is, the proportion of loans whose payments are
30 days or more past due or not accruing interest) rose to 7-1/4
percent at year-end, the highest level posted since at least 1985.
Credit quality deteriorated most sharply for real estate loans. For
2009 as a whole, banks cumulatively charged off 2-1/2 percent of
the loans that were outstanding at year-end 2008, directly contributing
to the decline in loans outstanding.

In contrast to the drop in loans, banks' holdings of securities
expanded about 20 percent over 2009 (adjusted for structure
activity), with growth particularly strong in holdings of Treasury
securities and agency debt securities (excluding MBS). In addition, as
the Federal Reserve ramped up its purchases of Treasury and agency
securities over the course of the year, reserve balances grew as a
share of banks' total assets. Indeed, at the end of 2009, such balances
accounted for 5 percent of banks' total assets; reserve balances
had accounted for just 1/4 percent of assets before the
financial turmoil of the fall of 2008.

Business Loans

Commercial and industrial (C&I) loans on banks' books
plummeted 18-1/2 percent in 2009, the steepest annual decline
since at least 1985, and the pace of contraction gained momentum over
the year (figure 5).

Demand for C&I loans decreased as nonfinancial firms' need for
external finance dropped off. The financing gap at nonfinancial
corporations--the difference between capital expenditures and
internally generated funds--fell sharply in the second half of 2009 and
ended the year below zero (figure 6). Anecdotal
reports associated with the weekly data collected by the Federal
Reserve indicate that originations of large loans were sparse last
year, and there were broad-based paydowns of existing C&I loans across
banks and industries. The contraction in C&I loans was especially steep
at large banks last year, which is consistent with reports that some
large firms with access to capital markets paid down bank loans
with the proceeds of bond issues. Indeed, bond issuance was
robust after the first quarter amid increasingly attractive conditions
in the corporate bond market (figure 7).
Overall, according to domestic banks responding to the Federal
Reserve's Senior Loan Officer Opinion Survey on Bank Lending Practices
(SLOOS), the most important factors explaining the decline in C&I loans
last year were lower loan demand from creditworthy borrowers and a
deterioration in the credit quality of potential borrowers.

On the supply side, results from the SLOOS indicated that
unprecedented fractions of banks tightened standards and a wide range
of terms on C&I loans through the first half of 2009 (figure
8). Results from the Federal Reserve's quarterly Survey of
Terms of Business Lending also pointed to a tightening in credit
conditions, indicating that the spreads of C&I loan rates over banks'
cost of funds increased sharply last year. Even after adjusting for
changes in the riskiness of loans and other nonprice loan
characteristics, significant increases in C&I loan rate spreads were
reported on loans of all sizes and on loans originated by both large
and small banks.

A number of developments contributed importantly to last year's
decline in C&I loans. As financial market conditions improved in 2009,
the drop in C&I loans may have been exacerbated by repayments of draws
on existing credit lines; firms had reportedly drawn heavily on these
lines for precautionary liquidity during the extreme disruptions in
credit markets in the fall of 2008. In addition, strained conditions in
the syndicated loan market may also have contributed to the sharp
decline in C&I loans at large banks, as banks, to complete syndicated
deals, had relied heavily on some types of structured vehicles that
have not regained acceptance by investors. In the leveraged segment of
the C&I loan market, issuance was weak through most of last year
despite consistent improvement in loan prices and trading liquidity in
the secondary market for such loans. In the fourth quarter, however,
issuance of syndicated leveraged loans picked up somewhat, and the
terms on such loans reportedly eased a bit.

Policymakers have expressed concern about the difficulties that
creditworthy business borrowers without access to capital
markets--typically small businesses--are experiencing in obtaining
credit in the current lending environment. Gauging the degree to which
small businesses' access to credit has tightened is difficult, as only
sparse and imperfect measures of small business lending by banks are
available.4 A survey by the National Federation of
Independent Business found that slightly larger net fractions of small
businesses in 2009 reported that they faced tightening credit
conditions than had so reported during the period of banking strains in
the early 1990s, and that approval rates for business owners attempting
to borrow were significantly lower than in the mid-2000s. That said,
only 8 percent of surveyed business owners indicated that access
to credit was their principal economic problem, with slow sales and an
uncertain economic situation being more commonly cited.5 In
part, the tight credit conditions reported by small businesses may
reflect the reduced credit quality of such firms. Banks reported in the
SLOOS that delinquency rates in the fourth quarter were higher for C&I
loans to small businesses than for such loans to larger businesses, and
more banks expected improvement over 2010 in the credit quality of C&I
loans to larger firms than of C&I loans to smaller firms.

Federal and state regulators issued guidance in February 2010
stating that banks should strive to make prudent loans to creditworthy
small businesses, and the regulators directed examiners to conduct
their reviews in a way that would not discourage such
activities.6 In addition, the availability of loans to small
businesses was supported by the Term Asset-Backed Securities Loan
Facility, which helped revitalize the market for securities guaranteed
by the Small Business Administration.

Delinquency and charge-off rates on C&I loans increased through
2009, and while these rates were not as high as those in other loan
categories, their levels at year-end were roughly comparable with those
from the early 1990s (figure 9). Most SLOOS
respondents indicated that they expected the credit quality of C&I
loans to stabilize or improve in 2010, although banks' outlook
regarding credit quality was more sanguine for loans to larger
businesses than for loans to smaller businesses. In addition, some
signs of stabilization in C&I loan quality were apparent in the fourth
quarter of 2009, as the delinquency rate on C&I loans increased only
slightly further and the charge-off rate declined a bit.

The fundamentals of CRE were poor in 2009, with prices of
commercial properties dropping, rents declining, and vacancy rates
rising. Financing conditions for CRE were strained over the year:
Almost no issuance of commercial mortgage-backed securities occurred
(figure 10), and large net fractions of banks
reported tighter standards for CRE loans in the SLOOS (figure
11). The pace of the runoff in CRE loans increased over
the year, while delinquency and charge-off rates reached historically
high levels. In particular, the delinquency rate on construction and
land development loans surged to 18-1/2 percent by the end of
2009, and the delinquency rate was 28-1/2 percent for loans that
financed the construction of one- to four-family residential properties
(figure 12). Meanwhile, the charge-off rate on
construction and land development loans reached 8 percent in the
fourth quarter. The credit quality of other CRE lending categories
deteriorated to a lesser degree but nevertheless appeared to still be
worsening at year-end. Indeed, in the January 2010 SLOOS, banks
reported expectations of further deterioration in the credit quality of
CRE loans over 2010, an outlook that may be seen as a particular
concern for smaller banks because their assets are more heavily
concentrated in CRE lending. Smaller banks increased their
concentration of lending in CRE loans over much of the past decade; at
the end of 2009, CRE loans accounted for about 46 percent of
total loans at such banks, compared with about 17 percent of
loans at the 100 largest banks.

Banks' holdings of CRE loans fell 6 percent (adjusted for
structure activity) in 2009, pulled down by a precipitous drop in loans
to fund construction and land development, particularly of one- to
four-family residential homes (figure
13).7 In contrast, loans secured by nonfarm
nonresidential properties expanded modestly last year despite the
worsening fundamentals in commercial property markets. Some of this
relative strength may reflect a substitution away from C&I loans: Given
the substantial deterioration in the credit quality of banks' business
loan portfolios, some banks reportedly sought stronger collateral for
business loans, which may have included forms of real estate. In such
cases, the loans would have shifted from the C&I category to loans
secured by nonfarm nonresidential real estate. Nonetheless, even growth
of nonfarm nonresidential loans slowed over the second half of the
year. In other CRE lending, loans backed by multifamily properties grew
mildly over most of 2009 but dropped in the fourth quarter.

Following the financial crisis, households took steps to
strengthen their balance sheets. The household financial obligations
ratio--an estimate of debt payments and recurring obligations as a
percentage of disposable income--fell over 2009 to end the year at its
lowest level since 2000; this movement is consistent in part with
households paying down debt to reduce their interest and principal
burdens (figure 14). In addition, the personal
saving rate increased markedly since the beginning of 2008.

However, the combination of low mortgage rates, a tax credit for
first-time homebuyers, and improved home affordability likely
contributed to the strengthened demand for prime mortgages reported in
the SLOOS over the first three quarters of 2009 (figure
15). Compared with 2008, originations of first-lien
residential mortgages by commercial banks as a whole rose in 2009.

The decrease in banks' holdings of residential real estate loans
last year was attributable to their substantial sales of such loans to
the GSEs, their tight lending standards in an environment of declining
home values and high unemployment, and few originations of
nontraditional or subprime loans by banks.

The deterioration in the credit quality of banks' closed-end
residential real estate loans showed little, if any, sign of abating in
2009 (figure 16). National data on rates of serious
delinquency worsened considerably for all classes of borrowers and
types of mortgages. Delinquency rates on variable-rate mortgages in
particular continued to increase more than those on fixed-rate loans,
especially for subprime borrowers (figure 17). Of
all major loan classes, banks recorded the highest delinquency rate for
residential real estate loans, and the charge-off rate in this category
was also very elevated. Banks' holdings of foreclosed real estate rose
in 2009 but remained low relative to delinquency rates; such holdings
equaled about 1/2 percent of the value of outstanding closed-end
residential mortgages by year-end.

The credit quality of first- and junior-lien closed-end
residential mortgages diverged last year. Delinquency and charge-off
rates for first liens worsened throughout the year, but the delinquency
rate for junior liens stabilized in the second half of the year. The
latter development may be explained by the very sharp increase in the
charge-off rate on junior liens, as these loans are associated with
lower recovery rates and tend to be charged off sooner after becoming
delinquent than first liens. In contrast, delinquency and charge-off
rates for revolving, open-end home equity loans were about flat for
most of the year, likely reflecting banks' tightening of standards on
such loans over the past several years and their ability to reduce
credit lines for borrowers with impaired home values.

Non-credit-card consumer loans expanded somewhat in the second
half of 2009, perhaps in part as a result of frictions in the student
loan securitization market, which caused banks to retain more of such
loans on their books. In addition, this category of lending may have
benefited from a pickup in personal consumption expenditures on durable
goods during the second half of the year.

In contrast, credit card loans declined substantially over the
same period, likely for several reasons. These loans incurred the
highest charge-off rates of any major loan category, directly reducing
outstandings (figure 18).8 Also, banks
tightened standards and terms on consumer loans (figure
19), partly in anticipation of new regulations. Households
may also have reduced their use of credit cards in part to shore up
their financial condition, a move that would be consistent with the
reduced demand for consumer loans that was reported by notable net
fractions of banks in the SLOOS during 2009.

By year-end 2009, the credit quality of consumer loans appeared to
have begun to stabilize. The delinquency and charge-off rates on
consumer loans declined slightly in the second half of the year but
remained at historically high levels, particularly for credit card
loans. In the January 2010 SLOOS, banks reported expecting no further
deterioration, on net, in the credit quality of consumer credit card
loans over 2010, assuming that economic activity progressed in line
with consensus forecasts; moderate net fractions of banks expected
credit quality to improve for other consumer loans. The largest
banks--which are responsible for the bulk of credit card lending--may
have begun to benefit from the stabilization in credit quality on
credit card loans, as evidenced by their reductions in loan loss
provisioning during the fourth quarter.

Other Loans

All other loans and leases on banks' books, a volatile
category, dropped 7-1/4 percent over 2009, about the same rate of
decline as in 2008. Loans to other depository institutions were about
flat for the year. Leases, which are made primarily to businesses for
financing equipment or to households for financing automobiles, have
been declining for most of the past decade and continued to do so in
2009, albeit at a somewhat faster rate. Bank lending to state and local
governments grew during 2009 but not as rapidly as in recent years.
Farm loans were about flat for the year, as farm banks have been less
affected by the financial crisis, but growth of these loans weakened
compared with past years given the wider macroeconomic downturn. The
credit quality of farm loans also deteriorated in 2009 but was not
notably worse than the average quality of these loans over the past two
decades.

Securities

The decline in total loans over 2009 was partially offset by
growth in banks' securities holdings of about 20 percent
(adjusted for structure activity). While the expansion in securities
was shared by banks of all sizes, it was strongest at the 100
largest banks. Amid heavy inflows of core deposits over the course of
the year (discussed later in the article) and weak loan demand, banks
increased their holdings of Treasury securities and agency non-MBS
issues most rapidly, suggesting a preference for liquid, low-risk
assets. A total of about $154 billion of these securities was
added to commercial banks' balance sheets over 2009, an increase of
roughly 67 percent over year-end 2008. The run-up occurred mostly
at the 100 largest banks, which traditionally have held fewer of these
securities as a share of total securities than smaller banks. Agency
MBS, which accounted for roughly 37 percent of banks' securities
holdings at year-end 2009, also grew strongly at the 100 largest banks.

In general, banks report both the book value (or amortized cost of
acquisition) of their securities and the securities' current market
value. The market value of the securities is affected by the credit
quality of the issuers or of the assets that back the securities as
well as by changes in the general level of interest rates. At the
height of the credit market turmoil in the fall of 2008, the market
value of many bank-held securities, particularly the non-agency MBS at
the center of the crisis as well as the perpetual preferred securities
issued by the GSEs, had declined considerably. However, the substantial
decline in the general level of interest rates since the onset of the
crisis has caused the market value of longer-duration assets with
little credit risk to increase.

Over 2009, the difference between reported fair value measurements
and book values of available-for-sale securities in investment accounts
narrowed, suggesting that banks have substantially lower revaluation
losses on their current securities holdings than they did a year ago.
At the end of 2008, banks reported net unrealized losses on investment
account securities of about $60 billion, led by losses on
non-agency MBS and ABS, which were offset a bit by gains in other
securities categories, particularly agency MBS. These net unrealized
losses waned over 2009, as improving financial conditions and lower
interest rates contributed to a recovery in the market prices of many
securities. At the end of the fourth quarter, banks reported net
unrealized gains of about $9 billion on their investment account
securities as a whole.9 Finally, banks sold some securities
at a loss, which was reflected in the $1.7 billion of total net
realized losses on securities holdings over 2009.

Cash Assets

Cash assets, including reserve balances with Federal Reserve
Banks, expanded considerably in late 2008, a pattern consistent with
the considerable growth of the Federal Reserve's balance sheet. Usage
of the special liquidity facilities established at the height of the
financial crisis gradually fell over the first half of 2009, and
reserve balances declined over the same period. However, as the Federal
Reserve continued its large-scale asset purchases, reserve balances
rose sharply in the third quarter. At year-end, the level of reserve
balances was at a record high, accounting for 5 percent of
industry assets. The interest rate paid on excess reserves held by
banks remained at 25 basis points over the year.

Off-Balance-Sheet Items

For the second consecutive year, banks' off-balance-sheet
unused commitments to fund loans contracted steeply, and the runoff was
widespread across all major commitment categories (figure
20). Responses to the SLOOS suggest that banks reduced
credit lines for both new and existing customers and that those
reductions were more prevalent for lower-quality borrowers. In
addition, the cuts in lines likely reflected disproportionately the
tightened lending standards by banks, as borrowers are presumably
unlikely to request reductions in their line size since the marginal
cost to borrowers of maintaining unused lines is typically small,
especially for households.

Securitized loans, which are not held on banks' books, contracted
5 percent over 2009.10 Since the data began to be
collected in 2002, the only previous annual decline occurred in 2003,
with a drop of -1/2 percent. Last year's decline was likely
in response to the impairment of many securitization markets for all or
part of the period, as well as the weak lending environment.
Securitized mortgages had risen considerably over 2007 and 2008 and
still accounted for two-thirds of securitized loans at the end of 2009.
However, with the market for non-agency MBS remaining shut last year,
balances of securitized mortgages declined about 3-3/4 percent in
2009. The GSEs, though, continued to purchase large quantities of
closed-end residential mortgages from banks.

Securitized credit card loans, which account for a further
20 percent of securitized loans, declined 8-3/4
percent in 2009. Most of this decline was due to the consolidation of
securitized credit card assets in the fourth quarter by one large bank
that adopted the new FAS 166 and 167 accounting rules at that
time.11

Derivatives

In 2009, the notional principal amount of derivatives
contracts held by banks grew a moderate 3-3/4 percent to reach
$220 trillion (table 2).12 Notional
values are boosted substantially by a few of the largest banks, which
enter into offsetting positions in their capacities as dealers in
derivatives markets. The fair market value of those derivatives contracts held by banks reflects the contracts' replacement costs and
is far smaller than the notional principal amount.13 The
aggregate fair market value for all bank contracts with a positive
value in 2009 was about $4.1 trillion; for all bank contracts
with a negative value, the aggregate fair market value was roughly
negative $3.9 trillion. These fair values were considerably
smaller relative to their notional values at the end of 2009 than they
were at the end of 2008, due to the partial recovery in financial
markets from the unprecedented market dislocations that occurred in the
fall of 2008. Both the positive and negative fair values contracted
substantially over the first half of 2009, and each declined about
43 percent for the year as a whole.

2. Change in notional value and fair value of derivatives, all U.S. banks, 2004-09
Percent

Interest rate products continued to account for more than 80 percent of the notional value of derivatives products held by banks and about 77 percent of positive and negative fair values. Interest
rate swaps, which account for most of the interest rate derivatives on
banks' books, are an important way for banks to hedge interest rate
risk, including that related to interest-sensitive assets such as
mortgages and MBS. The notional amount of interest rate swaps declined
1-3/4 percent over 2009. In addition, both positive and negative
fair values dropped substantially, likely in part because of the
development of stable low interest rates over the year. Other interest
rate derivatives include options, futures, and forwards, and the
notional value of these other derivatives contracts grew 16 percent over 2009, in line with the pace in the past few years.

One of the fastest growing components of banks' derivatives
portfolios in recent years has been credit derivatives, which, prior to
last year, had expanded an average of about 70 percent per year
since 2000. After a pause in 2008, credit derivatives resumed growth in
2009.14 The notional amount of these derivatives grew
29 percent for the year, and at year-end 2009, credit derivatives
accounted for 9-1/2 percent of the notional principal value of
all derivatives contracts held by banks. By contrast, the fair value of
credit derivatives contracts fell 60 percent in 2009, and these
products constituted about 11 percent of positive and negative
fair values at banks at year-end. These fair values started to decline
in the spring of 2009 but remained high relative to historical norms
due to the elevated spreads on many of the underlying reference
entities. Over the course of the year, as spreads on underlying
reference entities receded and overall market functioning improved, the
value of such credit protection (the fair values of the credit
derivatives) declined. Credit default swaps accounted for 98 percent of the notional value of credit derivatives held by banks throughout the year (total return swaps and credit options are two
other common types). Banks are beneficiaries of protection when they
buy credit derivatives contracts and providers of protection
(guarantors) when they sell them. Banks are typically net beneficiaries
of protection; as of year-end, contracts in which banks were
beneficiaries of protection totaled $10.5 trillion in notional
value, and contracts in which they were guarantors totaled $10.1 trillion (figure 21).

Banks also use derivatives related to foreign exchange, equities,
and commodities. Collectively, those instruments accounted for about
9 percent of the notional value of the derivatives contracts held
by banks at year-end. Banks' notional holdings of
foreign-exchange-related derivatives grew 2-1/4 percent in 2009.
Their notional holdings of equity and commodity derivatives together
fell 18-1/2 percent, a second consecutive annual decline.

The share of industry derivatives contracts (in terms of notional
value) at the 10 largest banks (in terms of assets) had for years been
more than 97 percent, a concentration ratio that reflected the
role that some of the largest banks play as dealers in derivatives
markets. However, since the end of 2008, that share has declined to
about 80 percent, as the reorganization of a prominent
derivatives dealer involved booking these derivatives at one of its
commercial bank subsidiaries that remained outside of the 10
largest banks at the end of 2009. Still, banks' derivatives holdings
were highly concentrated over the past two years: The 5 banks with the
most derivatives activity in 2009, including 1 bank not among the 10
largest banks by assets, held 96 percent of all derivatives by
notional amounts.15

Liabilities

Total liabilities on banks' books declined about
5-1/2 percent in 2009. Adjusting for major structure
events, liabilities contracted 6-3/4 percent. As was true of the
decrease in assets, the decline in liabilities was concentrated at the
100 largest banks. The runoff in liabilities took place in the context
of deleveraging by banking institutions amid weak loan demand and tight
credit standards; banks reduced assets, raised capital, and pared back
relatively more expensive sources of funding. Thus, banks did not
compete strongly for managed liabilities or small time deposits, and
declines in those components accounted for the contraction of overall
liabilities. Indeed, small time deposits shrank substantially over
2009, reversing a steep run-up during the height of the financial
crisis in late 2008, after which the spreads between rates on time and
savings deposits declined markedly.

While overall liabilities contracted, total core deposits grew
about 8 percent in 2009, well above the average pace during years
prior to the financial crisis. As a result, for the second consecutive
year, core deposits rose as a share of bank funding.16 Amid low market interest rates, the opportunity cost of holding liquid
deposits remained low in 2009, and consequently savings and transaction
deposits grew sizably (figure 22). With money market
rates unusually low, money market mutual funds experienced large
outflows, some of which may have ended up at banks as the public sought
the safety and liquidity of insured deposits (figure
23). Reinforcing this trend was the extension through 2013
of the temporary increase in the Federal Deposit Insurance
Corporation's maximum deposit insurance amount to $250,000, which
previously had been in place only through the end of 2009.17
The FDIC also extended, until the end of June 2010, its program
providing unlimited guarantees of transaction accounts, although the
new higher annual assessment rates for participating banks caused many
large institutions to opt out of the program at year-end 2009.

Managed liabilities contracted 16-1/2 percent over 2009.
Given strong growth of core deposits and shrinking assets, banks were
able to continue reducing their reliance on these generally more
expensive and less stable sources of funds. Large time deposits ran off
appreciably, while deposits booked in foreign offices were about flat
for the year. In addition to paring back advances from the Federal Home
Loan Banks over the course of the year, commercial banks decreased
their borrowings from the Federal Reserve liquidity facilities
introduced during the crisis.18 Net borrowings in the
federal funds market declined in light of banks' hefty reserve
holdings.

Banking institutions issued about $300 billion of debt under
the debt guarantee portion of the FDIC's Temporary Liquidity Guarantee
Program (TLGP), which was established in October 2008. The TLGP
guarantees, in exchange for a fee, short- and medium-term debt maturing
on or before December 31, 2012. About five-sixths of this debt
was issued by bank holding companies (BHCs) and so does not appear
directly as long-term debt at the bank level. The program was used most
heavily before the summer of 2009. After the results of the Supervisory
Capital Assessment Program were released in May, many banks were able
to issue sufficient amounts of debt without the guarantee. In October,
the FDIC ended the Debt Guarantee Program component of the TLGP and
established a new, limited emergency guarantee facility in order to
promote the transition of banking institutions away from such support.

Capital

The banking industry shored up its capital position in 2009.
The equity capital of commercial banks rose to about 11-1/4
percent of assets by the end of 2009, up considerably from about
9-1/2 percent at the end of 2008. The increase was due largely to
substantial infusions of capital from parent BHCs throughout the year.
Total capital transfers in 2009 amounted to $113 billion. These
additions augmented the large transfers that occurred in the fourth
quarter of 2008 (figure 24). In many cases, the
transfers reflected the downstreaming of capital raised by the parent
BHC through the Troubled Asset Relief Program's Capital Purchase
Program (CPP). Although many BHCs repaid CPP funds during the second
half of 2009, most of that equity was replaced by secondary equity
issuance by large BHCs that had been evaluated under the SCAP. As
public equity markets improved further in the second half of 2009,
other banks were also able to issue new shares to build capital or
repay CPP investments. (For more information, see box "The Capital
Purchase Program and the Supervisory Capital Assessment
Program.")

Retained earnings as a share of total equity dropped from about
27 percent at the end of 2008 to about 22 percent at the
end of 2009. That component was reduced by declared dividends that
exceeded profits for the second consecutive year, even though such
payouts as a percentage of average assets were at historically low
levels. A large majority of the dividends were declared by banks in the
top five BHCs. These relatively more profitable institutions repaid
their CPP funds in the second half of 2009 and were not subject to the
restrictions on dividends at the BHC level that are associated with the
receipt of TARP funds.19 For the entire year, dividends at
profitable banks amounted to 0.55 percent of average assets,
while dividends at the other banks amounted to only 0.04 percent.

On balance, all three regulatory capital ratios increased to
record levels (figure 25). The leverage ratio increased by
1 percentage point to about 8-1/2 percent by the end of
2009.20 The tier 1 and total risk-based capital
ratios, measured relative to risk-weighted assets, each increased
substantially--from about 9-3/4 percent to 11-1/2 percent
and from about 12-3/4 percent to 14-1/4 percent,
respectively.21 Reductions in risk-weighted assets and
average tangible assets as well as increased capital contributed to
higher regulatory capital ratios in 2009. The reduction in
risk-weighted assets was partly attributable to a shift in the
composition of assets from loans to cash and securities, while total
assets shrank as loans outstanding on banks' books ran off steeply last
year.

Several factors likely contributed to banking institutions'
efforts to boost capital. First, some of the largest banking
organizations were required to augment their capital as a result of the
SCAP process. Second, a few banks faced substantial increases in both
risk-weighted and total assets associated with the large amounts of
off-balance-sheet assets that are required to be consolidated on banks'
balance sheets by the end of the first quarter of 2010 in conjunction
with the adoption of Statements of Financial Accounting Standards Nos.
166 and 167. Those consolidations may have led some institutions to add
to their capital prior to the accounting change.22 Third,
capital is generally considered a buffer to protect uninsured
depositors and other senior stakeholders against unexpected losses that
a bank may potentially incur beyond what it has set aside in reserves.
In the current uncertain economic environment, banks may want a larger
than usual buffer. Moreover, banks' loan loss reserves--which are
intended to cover estimated likely credit losses--have fallen to very
low levels relative to their delinquent loans and charge-offs, even as
certain sectors of the economy to which many banks have significant
exposures, such as commercial real estate, remain fragile. Finally,
both national and international authorities are considering tightening
capital requirements in light of the crisis.

The Capital Purchase Program and the Supervisory Capital
Assessment Program

In 2009,
parent bank holding companies (BHCs) transferred a record level of
capital to commercial banks within their organizational structures.
Such transfers resulted in significantly higher regulatory capital
ratios for those subsidiary banks. The capital transfers themselves
were initially supported by large injections of government capital at
the BHC level through the Troubled Asset Relief Program (TARP),
launched in October 2008, and primarily through the TARP Capital
Purchase Program (CPP).1 The CPP initially was allotted
$250 billion to purchase senior preferred shares of financial
institutions in order to stabilize the financial system by increasing
the capital base of financial institutions and to support their
capacity to make loans to businesses and households. Financial
institutions participating in the program agreed to pay the Treasury a
5 percent dividend on the preferred shares per year for the first
five years and 9 percent per year thereafter. At the end of 2008,
the CPP had almost $180 billion invested in more than 200
financial institutions. Most of the capital was committed to the
largest U.S. financial institutions (figure C, top panel). By
the end of 2009, more than 650 institutions had received CPP
investments. CPP balances peaked at close to $200 billion in the
second quarter, but afterward many banks began to repay those
investments. As of year-end, CPP balances had fallen to less than
$85 billion.

A turning point in the outstanding balances of
the CPP program was the Supervisory Capital Assessment Program (SCAP),
otherwise known as the bank stress tests. Led by the Federal Reserve,
the U.S. federal banking supervisory agencies conducted the SCAP from
February to April 2009 and released the results in May.2
The objective of the SCAP was to conduct a comprehensive,
consistent, and simultaneous assessment of capital needs across the
19 largest BHCs using a common set of macroeconomic scenarios and a
common forward-looking framework.3 More specifically, the
SCAP estimated losses, revenues, and loss reserve needs for the next
two years under two macroeconomic scenarios.4 The program
was designed to assess the need for a BHC to raise or improve the
quality of capital in order to have sufficient capital buffers to
sustain lending even in a more adverse economic scenario. The SCAP
results identified 10 BHCs as requiring additional capital or
higher-quality capital. The detailed publication of the SCAP results
also helped clarify the financial conditions of the largest BHCs and
provided investors with greater assurance about the health of these
institutions. The resulting improvement in market sentiment regarding
banking institutions, reinforced by the stabilization of the economic
outlook at the time, allowed the BHCs to tap capital markets for
substantial funds. Most of the 19 BHCs included in the SCAP issued
equity, some to raise their required SCAP buffer and some to repay
the Treasury investments through the CPP and, eventually, other TARP programs
(figure C, bottom panel). Other banks also issued equity in the second
half of 2009 to bolster their capital or repay CPP investments. The
preferred shares owned by the government were replaced primarily with
common stock held by private investors. Reflecting the inflow of both
government and private capital to BHCs, capital transfers by the BHCs
to their commercial bank subsidiaries were strong throughout
2009.

While the CPP and SCAP helped reduce the uncertainty about
the capital adequacy of large financial institutions and contributed to
improved market functioning, it is difficult to assess the extent to
which the CPP and SCAP succeeded in fostering lending to creditworthy
businesses and households. Banks' lending activity, as measured by the
sum of total loans and unused loan commitments outstanding, fell
substantially last year, and lending standards and terms continued to
tighten according to the Federal Reserve's Senior Loan Officer Opinion
Survey on Bank Lending Practices. However, some of the fall in credit
was likely due to weaker demand by households and businesses as the
economy remained fragile. In addition, at least some tightening of
credit standards and terms is also to be expected when economic growth
is weak or uncertain, and so a tightening may not reflect pressures on
capital. Indeed, credit might have been even weaker and lending
standards even tighter without the programs.

One can say, however,
that the cumulative magnitude of the capital transfers that were
stimulated by the CPP and SCAP was substantial. Without the capital
transfers from parent BHCs since the fourth quarter of 2008, the
regulatory capital ratios of commercial banks would have been
1-1/2 to 2 percentage points lower at the end of 2009.
Although some of that difference in regulatory capital ratios in the
absence of the CPP likely would have been made up through other means,
such as stock sales and conversions, a further decrease in
risk-weighted assets and average tangible assets may also have
resulted.

1. The Treasury
also purchased preferred stock at Citigroup, Inc., and Bank of America
Corporation through the TARP Targeted Investment Program (TIP). Both
institutions fully repaid their TIP balances in the fourth quarter of
2009. Return to text

4. The two scenarios consisted of a "baseline
scenario" and a "more adverse scenario." The baseline scenario
relied on a consensus view about the depth and duration of the
recession, assuming real GDP growth and the unemployment rate for 2009
and 2010 equal to the average of the projections published by Consensus
Forecasts, the Blue Chip survey, and the Survey of Professional
Forecasters as of February 2009. In addition, house prices were assumed
to be in line with futures prices for the S&P/Case-Shiller 10-city
composite index in late February and with the average response to a
special question on house prices in the Blue Chip survey. The more
adverse scenario was designed to characterize a recession longer and
more severe than the consensus expectation, with house prices assumed
to be significantly lower by the end of 2010 than in the baseline
scenario. Return to text

Although not part of regulatory capital, accumulated other
comprehensive income (AOCI), which includes net unrealized gains and
losses on available-for-sale securities and accumulated net gains and
losses on cash flow hedges, continued to play an important role as a
component of equity last year. Particularly during the period of
greatest stress on the banking system in late 2008 and the first half
of 2009, market participants focused on various measures of tangible
common equity (TCE) relative to tangible or risk-weighted assets as
important indicators of banks' financial condition. These measures
usually incorporated AOCI in the calculation of tangible capital. The
increase in AOCI, which was largely due to the notable reduction in
unrealized losses on available-for-sale securities, helped improve
industry TCE ratios in 2009.

Trends in Profitability

Total annual net income of the commercial banking industry as
a percentage of average assets remained depressed in 2009, as profits
were weighed down by high levels of loss provisioning. Elevated
provisions were offset by higher noninterest income, particularly
income from capital-market-related activities. Net interest margins
remained basically unchanged, and noninterest expense edged down
despite significant increases in FDIC assessments. Notably, large banks
posted a small profit, on balance, while other banks ended the year
with an aggregate loss.

Return on assets for the banking industry as a whole stayed very
low by historical standards at 0.04 percent, and return on equity
was 0.42 percent, with both profitability measures depressed by
elevated loss provisioning amid the deterioration in credit quality.
Banks increased provisioning to 1.95 percent of industry average
consolidated assets in 2009, up from 1.48 percent in 2008. At the
same time, charge-offs surged to 1.47 percent of industry
assets--compared with 0.83 percent in 2008--limiting the rise in
the stock of loan loss reserves, and delinquency rates increased
dramatically throughout 2009. Although the rate of provisioning edged
down in the final quarter of last year, consistent with reduced
charge-offs in some loan categories, some measures of reserve adequacy
remained very low.

Despite the high levels of provisioning, the ROA at large banks
increased from 0.04 percent in 2008 to 0.12 percent in
2009. The improvement in profitability was due mainly to a rebound in
these banks' noninterest income. In particular, trading revenue at
large banks was boosted by significant improvements in financial
markets throughout the year, including higher equity prices and lower
interest rates on corporate bonds and other securities. In addition,
relative to 2008, less noninterest expense, smaller losses on
securities held in investment accounts, and improvements in net
interest income supported earnings for the 100 largest banks. The
improvement in net interest income was attributable to significant
inflows of relatively low-cost core deposits, allowing banks to run off
their more expensive managed liabilities. However, the improvement in
profitability among the largest institutions was not uniform
(figure 26, top panel). Forty-three of the top 100
banks--accounting for about 35 percent of the assets of such
banks--incurred losses, compared with 35 of the top 100 banks in 2008.

In contrast, the fourth quarter of 2009 marked the sixth
consecutive quarter of losses at small and medium-sized banks. ROA for
such banks fell to negative 0.29 percent in 2009 from 0.10 percent in the previous year. The modest leftward shift in the
distribution of ROA for such banks in 2009 reflects a deterioration in
profitability for the group as a whole (figure 26, bottom
panel). The fraction of small and medium-sized banks that
incurred annual losses increased to about 30 percent in 2009, up
from 23 percent in 2008. These institutions accounted for about
36 percent of assets at all small and medium-sized banks.

Several factors contributed to the weaker performance of smaller
banks relative to larger ones. Smaller banks are not active in the
capital market activities that provided a substantial source of revenue
for large banks. In addition, smaller banks are relatively more exposed
to the deterioration in loan quality, as loans compose a higher
percentage of their assets. On the cost side, smaller banks could not
substitute additional core deposits for managed liabilities to the same
degree as large banks, as smaller banks already relied significantly on
low-cost deposits for funding.

Interest Income and Expense

Overall, banks earned an average of 4.62 percent on
their interest-earning assets in 2009, down from 5.72 percent in
the previous year. The decline was due partly to large compositional
shifts in banks' assets from loans to securities, an asset class that
typically carries lower average interest rates. Indeed, the average
effective interest rate on loans last year was 5.54 percent,
while the rate on securities was significantly lower at 4.15 percent. However, the effective interest rate earned on loans net of
provisioning fell sharply to just 2.10 percent, an unusually low
rate of return by historical standards. The deterioration in loan
quality also significantly reduced banks' interest income, as large
fractions of loans that had yet to be charged off moved to nonaccrual
status.

Meanwhile, consistent with the extended period of accommodative
monetary policy, the average interest rate that banks paid on their
interest-bearing liabilities fell steeply again, from 2.53 percent in 2008 to 1.30 percent in 2009. However, banks' use of
substantial inflows of core deposits to pay down more costly managed
liabilities was also an important factor in the decline. Core deposits
are an attractive source of funding for banks because they tend to be
fairly stable, as well as carry relatively low interest costs compared
with managed liabilities. Most of the increase in core deposits last
year came in the form of savings deposits, for which the effective
interest rate paid in 2009, measured by interest paid on such accounts
relative to their average balances, was historically low at about
0.50 percent, down from 1.24 percent in 2008.

On balance, the industry-wide net interest margin was little
changed in 2009 despite the reported widening of spreads for many types
of new loans over banks' cost of funds, as noted in the SLOOS, and
evidence of wider spreads on newly originated commercial and industrial
loans from the Survey of Terms of Business Lending, possibly due to a
large fraction of loans moving to nonaccrual status. However, the net
interest margin for the largest banks improved noticeably over the past
two years: For banks in the top five BHCs, net interest margins
increased from 3.13 percent in 2007 to 3.55 percent in 2009
(figure 27, top panel). These institutions benefited
the most from the decrease in funding costs associated with shedding
higher-cost managed liabilities in favor of core deposits. Indeed, core
deposits at banks in the top five BHCs jumped from less than 33 percent of average consolidated assets in 2008 to almost 39 percent in 2009 (figure 27, bottom panel). In addition, the
substantial increase in equity capital at large organizations, though
accounting for a small percentage of assets, also boosted net interest
margins, as neither common nor preferred dividends are included in
banks' interest expense.

In contrast, core deposits at small and medium-sized banks have
been relatively stable over the past few years, averaging just above
60 percent of assets since 2006. The net interest margins at
small and medium-sized banks decreased from 3.80 percent in 2008
to 3.61 percent in 2009, as the drop in their asset yields
exceeded the decline in the rates they paid on their liabilities.

Noninterest Income and Expense

Total noninterest income rebounded in 2009 to
2.07 percent of average assets. Most of the improvement was due
to trading revenue at large banks returning to pre-crisis levels
(figure 28, top panel). However, large banks' noninterest income was
also boosted by a significant increase in income from net servicing
fees and a substantial rise in the fair value of financial instruments
accounted for under a fair value option as conditions in financial
markets improved.23 These improvements at large banks were
offset somewhat by a sizable drop in net securitization income and a
small decline in income from deposit fees. Income from fiduciary
activities also decreased, largely because of a sharp drop in the first
quarter of 2009 as assets under management and the number of accounts
at bank trust departments fell in the wake of the decline in stock
prices. In contrast, noninterest income at small and medium-sized banks
inched down last year to 1.34 percent of average assets,
primarily because they also suffered from the decrease in income from
fiduciary activities (figure 28, middle panel).

The divergent pattern of noninterest income between the large and
the other banks mostly reflected the different composition of their
financial intermediation activities. Trading revenue, net servicing
fees, card interchange fees, and net securitization income composed
less than 13 percent of small and medium-sized banks' noninterest
income in 2009, compared with about 35 percent for large banks.
For large banks, trading revenue was boosted to pre-crisis levels by
significant improvements in income from interest rate and credit
exposures as conditions in financial markets improved (figure 28,
bottom panel). The increase in net servicing fees--which include income
from servicing mortgages, credit cards, and other off-balance-sheet
assets, as well as changes in the fair value of such servicing
rights--was partly a consequence of the consolidation of some large
thrift institutions into the banking sector in the second and fourth
quarters of 2009. Further, large banks reportedly sold sizable amounts
of seasoned residential mortgage loans to the government-sponsored
enterprises last year, and some may have retained servicing rights to
those loans. While bankcard and credit card interchange fees continued
to be an important source of noninterest income for large banks, net
securitization income fell rapidly for the second consecutive year
because of relatively subdued securitization activity.24
Other noninterest income items not mentioned separately already made up
about 35 percent of noninterest income for the industry as a
whole.25

Banks' noninterest expense edged down to 3 percent of
average assets in 2009 (figure 29, top panel). Salaries, wages,
and employee benefits composed about 43 percent of noninterest
expense, a figure that continues to be fairly low by historical
standards. Among other noninterest expense items, net expenses of
premises and fixed assets (excluding mortgage interest) continued to
account for about 12 percent of noninterest expense. Goodwill
impairment charges decreased from more than $26 billion in 2008
to about $10 billion in 2009.26 That improvement was
offset, however, by rising FDIC assessment fees, which jumped to about
$17 billion in 2009 from slightly more than $1 billion in
2008 (figure 29, bottom panel); those fees were
exceptionally elevated in the second quarter of 2009, when the FDIC
levied a special assessment fee in order to replenish the Deposit
Insurance Fund (DIF) because of the growing number of bank failures. In
the second half of 2009, the FDIC raised its estimated cost of bank
failures and required banks to prepay regular assessments through 2012,
with higher assessment rates applied for 2011 and 2012, in order to
shore up the DIF. This prepayment was not considered to be noninterest
expense for 2009, but rather was booked as a prepaid asset to be
expensed smoothly over the next three years. According to the FDIC,
these prepayments totaled $46 billion for all FDIC-insured
institutions. Banks were able to reduce expenses in other noninterest
categories, which include data processing expenses, advertising and
marketing costs, and other items.27

International Operations of U.S. Commercial Banks

The share of U.S. bank assets booked in foreign offices edged
down from about 12-1/2 percent at year-end 2008 to just less than
12-1/4 percent at year-end 2009. Assets booked abroad remained
highly concentrated among the largest banks. Commercial banks returned
to profitability on their international operations in 2009, though
losses were reported on domestic operations for the first time since at
least 1985. However, profits at foreign offices would have been
negative and those at domestic offices positive, as was the case in
2008, had there not been a large reduction in internal allocations of
income and expense applicable to foreign offices at one large bank.
Before such allocations and restructuring activity for the industry as
a whole, net income from foreign offices as a percentage of average
assets booked in foreign offices remained about the same as in 2008.
More specifically, large increases in provisioning for loans and leases
held at banks' foreign offices and a fall in noninterest income were
offset by significantly smaller noninterest expense and a return to
positive realized gains in investment account securities.

Banks' total exposures to foreign economies through lending and
derivatives activities increased in 2009, as two investment banks with
large foreign exposures became BHCs and were added to the Federal
Financial Institutions Examination Council's Country Exposure Lending
Survey (table 3). Without the change in the sample
of banks, such foreign exposures would have continued to decline. The
vast majority of U.S. banks' cross-border lending and derivatives
outstanding--in dollar terms--remained in the advanced foreign
economies at the end of 2009.28 Lending and derivatives
activities outstanding in Asia were about 12 percent of total
foreign exposure, or 35 percent of total tier 1 capital of
the banks in the survey. Lending and derivatives exposures to the Latin
American and the Caribbean regions and such exposures to a selected
group of European Union countries (Greece, Ireland, Italy, Portugal,
and Spain) were both about 25 percent of total tier 1
capital.

NOTE: Exposures consist of lending and derivatives exposures for cross-border and local-office operations. Respondents may file information on one bank or on the bank holding company as a whole. For the definition of tier 1 capital, see text note 21.

The 2009 data cover 69 banks (which include two large, newly formed bank holding companies) with a total of $932.1 billion in tier 1 capital. The 2008 data covered 68 banks with a total of $705.1 billion in tier 1 capital.

1. The G-10 (Group of Ten) countries are Belgium, Canada, France, Germany, Italy, Japan, Luxembourg, the Netherlands, Sweden, and the United Kingdom. Return to table

Developments in Early 2010

U.S. economic activity continued to recover in the first
quarter of 2010, and financial market conditions remained broadly
supportive of economic recovery.29 In particular, household
spending expanded moderately, while business spending on equipment and
software rose significantly. The equity and bond markets continued to
be an important source of funding for large corporations. Treasury
yields, interest rates on business loans, and mortgage rates remained
low by historical standards, partly due to accommodative monetary
policy. The Federal Open Market Committee continued to maintain a
target range for the federal funds rate of 0 to 1/4 percent.
Financial markets showed little effect from the end of the Federal
Reserve's purchases of agency mortgage-backed securities and agency
debt and the expiration of most of the Federal Reserve's
emergency credit facilities. However, unemployment remained elevated,
investment in nonresidential structures declined further, and home
sales generally remained low.

Amid tight credit conditions and reportedly weak demand, loans to
both businesses and households continued to decline during the first
three months of 2010. Commercial and industrial loans contracted
further as spreads of interest rates on such loans over
comparable-maturity market instruments climbed again in the first
quarter. Commercial real estate loans also posted a substantial
decline, which reflected weak investment in nonresidential structures.
Residential real estate loans also ran off, likely owing importantly to
greater securitizations of mortgages to the government-sponsored
enterprises and sluggish home sales, while credit card balances
continued to fall, perhaps partly in response to further increases in
interest rates on credit cards.

Bank profitability improved significantly in the first quarter of
2010 as many banks reported tentative improvements in credit quality.
In particular, the four largest bank holding companies recorded profits
in the first quarter of 2010, as trading revenue and lower loss
provisioning boosted earnings. Indeed, the fairly broad-based decline
in loss provisioning also contributed to improved earnings at many
regional banks. Nevertheless, regional and smaller banks continued to
struggle with profitability as credit losses on core lending operations
remained high. Moreover, failures of smaller banks continued in 2010 at
about the same pace as 2009, driven largely by credit losses on
commercial real estate lending.

1. Effective October 1, 2008, the Federal Reserve began paying interest on depository institutions' required and excess reserve balances. Beginning with the 2008:Q4 Call Report, balances due from Federal Reserve Banks are now reported under "Interest-earning assets" rather than "Noninterest-earning assets." Return to table

3. Measured as the sum of large time deposits in domestic offices, deposits booked in foreign offices, subordinated notes and debentures, federal funds purchased and securities sold under repurchase agreements, Federal Home Loan Bank advances, and other borrowed money. Return to table

4. Measured as the sum of construction and land development loans secured by real estate; real estate loans secured by nonfarm nonresidential properties or by multifamily residential properties; and loans to finance commercial real estate, construction, and land development activities not secured by real estate. Return to table

5. Other real estate owned is a component of other noninterest-earning assets. Return to table

6. When possible, based on the average of quarterly balance sheet data reported on schedule RC-K of the quarterly Call Report. Return to table

1. Effective October 1, 2008, the Federal Reserve began paying interest on depository institutions' required and excess reserve balances. Beginning with the 2008:Q4 Call Report, balances due from Federal Reserve Banks are now reported under "Interest-earning assets" rather than "Noninterest-earning assets." Return to table

3. Measured as the sum of large time deposits in domestic offices, deposits booked in foreign offices, subordinated notes and debentures, federal funds purchased and securities sold under repurchase agreements, Federal Home Loan Bank advances, and other borrowed money. Return to table

4. Measured as the sum of construction and land development loans secured by real estate; real estate loans secured by nonfarm nonresidential properties or by multifamily residential properties; and loans to finance commercial real estate, construction, and land development activities not secured by real estate. Return to table

5. Other real estate owned is a component of other noninterest-earning assets. Return to table

6. When possible, based on the average of quarterly balance sheet data reported on schedule RC-K of the quarterly Call Report. Return to table

1. Effective October 1, 2008, the Federal Reserve began paying interest on depository institutions' required and excess reserve balances. Beginning with the 2008:Q4 Call Report, balances due from Federal Reserve Banks are now reported under "Interest-earning assets" rather than "Noninterest-earning assets." Return to table

3. Measured as the sum of large time deposits in domestic offices, deposits booked in foreign offices, subordinated notes and debentures, federal funds purchased and securities sold under repurchase agreements, Federal Home Loan Bank advances, and other borrowed money. Return to table

4. Measured as the sum of construction and land development loans secured by real estate; real estate loans secured by nonfarm nonresidential properties or by multifamily residential properties; and loans to finance commercial real estate, construction, and land development activities not secured by real estate. Return to table

5. Other real estate owned is a component of other noninterest-earning assets. Return to table

6. When possible, based on the average of quarterly balance sheet data reported on schedule RC-K of the quarterly Call Report. Return to table

1. Effective October 1, 2008, the Federal Reserve began paying interest on depository institutions' required and excess reserve balances. Beginning with the 2008:Q4 Call Report, balances due from Federal Reserve Banks are now reported under "Interest-earning assets" rather than "Noninterest-earning assets." Return to table

3. Measured as the sum of large time deposits in domestic offices, deposits booked in foreign offices, subordinated notes and debentures, federal funds purchased and securities sold under repurchase agreements, Federal Home Loan Bank advances, and other borrowed money. Return to table

4. Measured as the sum of construction and land development loans secured by real estate; real estate loans secured by nonfarm nonresidential properties or by multifamily residential properties; and loans to finance commercial real estate, construction, and land development activities not secured by real estate. Return to table

5. Other real estate owned is a component of other noninterest-earning assets. Return to table

6. When possible, based on the average of quarterly balance sheet data reported on schedule RC-K of the quarterly Call Report. Return to table

1. Effective October 1, 2008, the Federal Reserve began paying interest on depository institutions' required and excess reserve balances. Beginning with the 2008:Q4 Call Report, balances due from Federal Reserve Banks are now reported under "Interest-earning assets" rather than "Noninterest-earning assets." Return to table

3. Measured as the sum of large time deposits in domestic offices, deposits booked in foreign offices, subordinated notes and debentures, federal funds purchased and securities sold under repurchase agreements, Federal Home Loan Bank advances, and other borrowed money. Return to table

4. Measured as the sum of construction and land development loans secured by real estate; real estate loans secured by nonfarm nonresidential properties or by multifamily residential properties; and loans to finance commercial real estate, construction, and land development activities not secured by real estate. Return to table

5. Other real estate owned is a component of other noninterest-earning assets. Return to table

6. When possible, based on the average of quarterly balance sheet data reported on schedule RC-K of the quarterly Call Report. Return to table

NOTE: The data in this article cover insured domestic
commercial banks and nondeposit trust companies (hereafter, banks).
Except as otherwise indicated, the data are from the Consolidated
Reports of Condition and Income (Call Report). The Call Report consists
of two forms submitted by domestic banks to the Federal Financial
Institutions Examination Council: FFIEC 031 (for those with domestic
and foreign offices) and FFIEC 041 (for those with domestic offices
only). The data thus consolidate information from foreign and domestic
offices, and they have been adjusted to take account of mergers and the
effects of push-down accounting. For additional information on the
adjustments to the data, see the appendix in William B. English and
William R. Nelson (1998), "Profits and Balance Sheet Developments at
U.S. Commercial Banks in 1997," Federal Reserve
Bulletin, vol. 84 (June), p. 408. Size categories,
based on assets at the start of each quarter, are as follows: the 10
largest banks, large banks (those ranked 11 through 100), medium-sized
banks (those ranked 101 through 1,000), and small banks (those ranked
1,001 and higher). At the start of the fourth quarter of 2009, the
approximate asset sizes of the banks in those groups were as follows:
the 10 largest banks, more than $166 billion; large banks,
$7.9 billion to $165 billion; medium-sized banks,
$527.3 million to $7.9 billion; and small banks, less than
$527.3 million.

Data shown in this article may not match
data published in earlier years because of revisions and corrections.
The data reflect information available as of April 20, 2010,
unless noted otherwise. In the tables, components may not sum to totals
because of rounding. Appendix tables A.1.A through A.1.E report
portfolio composition, interest rates, and income and expense items,
all as a percentage of overall average net consolidated assets, for all
banks and for banks in each of the four size categories. Appendix table
A.2 reports income statement data for all banks.

1. It is worth emphasizing that the analysis in this article is
based on Call Reports for commercial banks. For a commercial bank that
is a subsidiary of a bank holding company or a financial holding
company, the Call Report does not include the assets, liabilities,
income, or expenses of the other subsidiaries of the larger
organization. Thus, the profits of the commercial banks that are
subsidiaries of a larger banking organization may differ substantially
from the profits of the consolidated institution. Return to text

4. For example, each year the second-quarter Call Report records
the amount of C&I loans outstanding that were made originally in small
amounts; these amounts are often used as a proxy for small business
lending but also may capture other lending, such as business credit
card loans and loans to large firms that were issued by multiple banks.
In addition, realized flows of credit generally reflect both demand and
supply conditions, and so a fall in loans may not necessarily be due to
supply factors. With those caveats, small C&I loans at banks declined
about 4-½ percent from the second quarter of 2008 to the second
quarter of 2009, while all other C&I loans declined about 9 percent. Return to text

5. William J. Dennis, Jr. (2010), Small Business Credit in
a Deep Recession (Washington: NFIB Research Foundation,
February). Return to text

6. See Interagency Statement on Meeting the Credit Needs
of Creditworthy Small Business Borrowers, an attachment to Board
of Governors of the Federal Reserve System, Federal Deposit Insurance
Corporation, National Credit Union Administration, Office of the
Comptroller of the Currency, Office of Thrift Supervision, and
Conference of State Bank Supervisors (2010), "Regulators Issue
Statement on Lending to Creditworthy Small Businesses, joint press
release, February 5,
www.federalreserve.gov/newsevents/press/bcreg/20100205a.htm. Return to text

7. Outstanding loans to fund the construction of one- to
four-family residential homes totaled only $86 billion at year-end,
less than one-half of their peak during the first quarter of 2008. Return to text

9. In early April 2009, the Financial Accounting Standards Board
issued guidance related to other-than-temporary impairments (OTTI), or
FASB Staff Position (FSP) FAS 115-2, which required impairment
write-downs through earnings only for the credit-related portion of a
debt security's fair value impairment, while other components would
affect other comprehensive income, which includes unrealized gains and
losses on available-for-sale securities. (For more information on the
guidance, see Financial Accounting Standards Board (2009), "Summary
of Board Decisions," webpage, April 2,
www.fasb.org/action/sbd040209.shtml. ) However, banks reported that the
cumulative effect of the initial application of FSP FAS 115-2 on OTTI
was only about $1.3 billion in 2009, having only a marginal effect on
earnings relative to total unrealized gains and losses and fair value
adjustments on securities. Return to text

10. Loans that banks sold or securitized with servicing rights
retained or with recourse or other seller-provided enhancements are
hereafter referred to, for simplicity, as "securitized" loans.
The analysis excludes loans that were sold to, and securitized by, a
third party (for example, the Federal National Mortgage Association or
the Federal Home Loan Mortgage Corporation). Return to text

11. The Financial Accounting Standards Board (FASB) announced in
June 2009 the publication of FAS 166, Accounting for Transfers of
Financial Assets, and FAS 167, Amendments to FASB
Interpretation No. 46(R) (Consolidation of Variable Interest
Entities), which will change the way companies account for
securitizations and special purpose entities. FAS 166 and 167 must be
implemented with firms' first financial reporting period ending after
November 15, 2009, which for commercial banks effectively means
that the implementation will be reflected in their 2010:Q1 Call
Reports. For more information, see the FASB's website at www.fasb.org.
For more information about the balance sheets of commercial banks, see
Board of Governors of the Federal Reserve System (2010), Statistical
Release H.8, "Assets and Liabilities of Commercial Banks in the
United States" (April 9),
www.federalreserve.gov/releases/h8/current/default.htm. Return to text

12. Notional amounts are amounts from which contractual payments
will be derived and, in most instances, are much larger than the
amounts at risk; thus, they do not accurately represent the scope of
economic involvement of banks with derivatives. Return to text

13. The total of all contracts with a positive fair value is a
measurement of credit exposure, or the amount that a bank could lose if
its counterparties did not fulfill their contracts. The total of all
contracts with a negative fair value at a bank represents a measurement
of exposure that the bank poses to its counterparties. Even these fair
value amounts can overstate exposure, as counterparties often enter
into bilateral "netting" agreements, which allow aggregation of
all bilateral exposure into the equivalent of a single trade in the
event of default of either party. Return to text

14. The flattening in notional values of credit default swaps
during 2008, however, appears to have been due in part to organized
efforts to compress offsetting trades and not simply to a reduction in
trading activity. Return to text

18. The Federal Home Loan Banks (FHLBs) were established in 1932
as GSEs chartered to provide a low-cost source of funds, primarily for
mortgage lending. They are cooperatively owned by their member
financial institutions, a group that originally was limited to savings
and loan associations, savings banks, and insurance companies.
Commercial banks were first able to join FHLBs in 1989, and since then
FHLB advances have become a significant source of funding for them,
particularly for medium-sized and small banks. The FHLBs are
cooperatives, and the purchase of stock is required in order to
borrow. Return to text

19. The top five BHCs are ranked by the combined assets of
commercial bank subsidiaries for a given BHC. As of the fourth quarter
of 2009, the top five BHCs had 28 commercial bank subsidiaries, which
accounted for about 52 percent of total commercial bank assets. For
more information on the dividend restrictions, see the public term
sheet for the CPP, which is an attachment to U.S. Department of the
Treasury (2008), "Treasury Announces TARP Capital Purchase Program
Description," press release, October 14,
www.ustreas.gov/press/releases/hp1207.htm. Return to text

20. The leverage ratio is the ratio of tier 1 capital to
average tangible assets. Tangible assets are equal to total average
consolidated assets less assets excluded from common equity in the
calculation of tier 1 capital. Return to text

21. Tier 1, tier 2, and tier 3 capital are regulatory
measures. Tier 1 capital consists primarily of common equity (excluding
intangible assets such as goodwill and excluding net unrealized gains
on investment account securities classified as available for sale) and
certain perpetual preferred stock. Tier 2 capital consists primarily of
subordinated debt, preferred stock not included in tier 1
capital, and loan loss reserves up to a cap of 1.25 percent of
risk-weighted assets. Tier 3 capital is short-term subordinated debt
with certain restrictions on repayment provisions and is limited to
approximately 70 percent of a bank's measure for market risk. Total
regulatory capital is the sum of tier 1, tier 2, and tier 3
capital. Risk-weighted assets are calculated by multiplying the amount
of assets and the credit-equivalent amount of off-balance-sheet items
(an estimate of the potential credit exposure posed by the items) by
the risk weight for each category. The risk weights rise from 0 to 1 as
the credit risk of the assets increases. The tier 1 ratio is the
ratio of tier 1 capital to risk-weighted assets; the total ratio
is the ratio of the sum of tier 1, tier 2, and tier 3
capital to risk-weighted assets. Return to text

22. Banks have an option to phase in the effects of the
implementation of FAS 166 and 167 on risk-weighted assets and
tier 2 capital over four quarters. See Board of Governors of the
Federal Reserve System, Federal Deposit Insurance Corporation, Office
of the Comptroller of the Currency, and Office of Thrift Supervision
(2010), "Agencies Issue Final Rule for Regulatory Capital Standards
Related to Statements of Financial Accounting Standards Nos. 166 and
167," press release, January 21,
www.federalreserve.gov/newsevents/press/bcreg/20100121a.htm. Return to text

23. Some of the increase in the fair value of financial
instruments may have been related to the new fair value guidance that
was issued by the Financial Accounting Standards Board in April 2009
(FASB Staff Position FAS 157-e), which reduced the emphasis on
"last transaction price" when markets are not active and
transactions are likely to be forced or distressed. Generally, larger
banks have tended to adopt the fair value option more widely than
smaller banks. Return to text

24. Such income is composed of net gains and losses on assets
sold in the bank's own securitization transactions net of transaction
costs--this includes unrealized losses (and recoveries of unrealized
losses) on loans and leases held for sale in the bank's own
securitization transactions and fee income from securitizations,
securitization conduits, and structured finance vehicles. Return to text

26. Banks incur goodwill impairment losses when the market value
of their business segments (or reporting units) drops below the fair
value recorded by the company. Companies must test for impairment of
goodwill annually or when events occur that would likely reduce the
fair value of a business segment (or reporting unit) below the carrying
value. Assets are written down when considered overvalued compared with
the market value--that is, the amount that a potential (or actual)
acquirer would be willing to pay (or had paid) for the assets. Return to text

27. Other items include amortization expense and impairment
losses for intangible assets besides goodwill, as well as other
noninterest expense items. Return to text